Saturday, January 3, 2015

Foreign Account Tax Compliance Act (FATCA) simplified

International TaxesAfter June 30, 2014, in addition to the withholding obligations under chapter 3, U.S. withholding agents must generally withhold 30% on U.S. source fixed or determinable annual or periodic income (FDAP), such as dividends and interest, paid to a foreign financial institution (FFI) or nonfinancial foreign entity (NFFE) unless the agent can reliably associate the payment with valid documentation that establishes that the payment is not subject to withholding (hereafter “FATCA withholding” or “chapter 4 withholding”).

Generally, a payment to an FFI is not subject to FATCA withholding if the FFI (i) enters into an agreement with IRS under which it assumes specific due diligence, reporting and withholding obligations (a participating FFI), (ii) is treated as a deemed-compliant FFI, or (iii) is subject to, and complies with, an intergovernmental agreement. For these purposes, an FFI includes a foreign bank, mutual fund, insurance company, investment company, pension fund, broker dealer and private equity firm.

An NFFE (other than an excepted NFFE) is not subject to FATCA withholding if the NFFE is the beneficial owner of the payment and either doesn't have any substantial (10%) U.S. owners or identifies its substantial U.S. owners to the withholding agent. Excepted NFFEs include publicly traded corporations and their affiliates, and active corporations with less than 50% passive income or assets. The regulations provide additional exceptions and exclusions from the withholding requirements.

Thus, a U.S. withholding agent, or participating FFI that agrees to act as a withholding agent, needs to have a process in place to collect information about FFIs and NFFEs with whom it does business. The agent needs enough information to identify the payee and to determine the payee's FATCA status (e.g., FFI, participating FFI, NFFE, excepted NFFE) in order to determine whether or not it is required to withhold on payments. In order to determine the payee's FATCA status, the withholding agent must rely on certifications, statements and documentation. Presumptions apply in the absence of documentation, and under certain circumstances, the withholding agent is treated as having reason to know information is incorrect.

A withholding agent (including a participating FFI) that is required to withhold with respect to a payment but fails either to withhold, or to deposit any tax withheld, is liable for the amount of tax not withheld and deposited. In addition, every withholding agent must file an income tax return on Form 1042 showing the aggregate amount of payments that are FATCA reportable amounts and must report the tax withheld for the preceding calendar year by the withholding agent. The withholding agent must also file an information return on Form 1042-S to report FATCA reportable amounts paid to a recipient during the preceding calendar year. In addition, financial institutions and withholding agents will be required to report U.S. financial accounts, financial accounts held by passive non-financial foreign entities (NFFEs) with substantial (10%) U.S. owners and financial accounts held by owner-documented FFIs with specified U.S. owners on Form 8966.

Payments on certain obligations outstanding on July 1, 2014 (grandfathered obligations) are exempt from FATCA withholding tax altogether. Payments on certain preexisting obligations held by individuals outstanding on June 30, 2014, or held by entities and issued, opened or executed on or after July 1, 2014 and before Jan. 1, 2015, are exempt from FATCA withholding before Jan 1, 2016. After Jan. 1, 2017, FATCA withholding will apply to gross proceeds (i.e., proceeds from the sale or other disposition of any property of a type that can produce U.S. source FDAP) and foreign passthru payments (definition reserved).

Furthermore, if you have members in your expanded affiliated group that are FFIs or NFFEs, each of these entities must take steps to comply with the FATCA requirements.

The above is a very cursory explanation of extensive and extremely complicated rules. In order to comply with these rules your company will need to develop processes for collecting and analyzing information. Please contact us so that we can help you prepare for the upcoming deadlines.
Amare Berhie, Senior Tax Accountant
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